Are there *any* experts forecasting that at 100% probability? I don't think so. And I suspect that all the experts who would forecast a higher probability of ex-US outperforming US would say that the forecasts depend on belief in the valuation models and principles underlying those models. In the Vanguard Strategic Research Group's case that is their Vanguard fair-value CAPE model, right?

I think Jack Bogle looks at 3 things: dividend yields, estimates of future changes in P/E and earnings growth. So the first 2 factors depend on valuations (estimates of P/E changes are probably linked to CAPE) but not the third factor.

Success does not bring happiness. In fact, happiness IS success. |
'There are only two tragedies in life: one is not getting what one wants, and the other is getting it.' Oscar Wilde

How many times are we going to rehash this conversation? Nobody has a crystal ball and market timing is not the boglehead way. This thread is not actionable.

As I explained in an earlier reply, Vanguard's estimates of return probability distributions have nothing to do with market timing. In the reply I just posted, I suggested several actions that one might take based on Vanguard's estimates. You might consider some of them as market timing, but there are possible actions that I don't think that anyone could argue are market timing, such as not abandoning your allocation to international stocks due to their recent under-performance, or even more obviously, increasing your savings rate due to lower than historical expected returns.

Kevin

I basically agree. There are at least two significant actions one could take in response to this estimate of the expected return (*not* prediction of the realized return) within a 'BH framework' : do not abandon international*, save more.

In fairness to the other side of the argument though, low expected returns from the market do in reality tend to make people look for ways to make more than the market return, usually futile for most people, though not necessarily for everyone (a debate for elsewhere who and when).

So I somewhat understand the comeback 'don't market time' in response to low estimates of the expected return of (US particularly) stocks. I wouldn't say it's a wholly clear thinking kind of comeback though. The message from Vang to my reading is 'take what the market gives, but be aware it's likely to pretty unimpressive going forward from the lofty valuations of financial assets in today's market in a pretty slow growing world economy, and particularly in the very richly valued US stock market'.

*BHism to my reading has nothing definitive to say about having intl stocks or what %.

If you go back in time and read 10 year predictions written in 2008, would they have been this precise? I would wager a high percentage were wrong.

You made me curious so I tried to find some of their old research papers to see.

From one in 2009:

Given early 2009 stock valuation levels, our analysis, as shown in Figure 9, suggests that a reasonable central-tendency estimate for the U.S. stock market’s expected return over the next 10 years should be near the long-term average of 8%–10%. However, our modeling also underscores that a wide range of outcomes is possible, given the inherent difficulty of predicting future stock returns.

Figure 9 showed expected returns from 2009-2018 with a 50th percentile expectation of around 10% for both US and International. Looks like CAGR was around 15%? but I'm not sure what month this paper was written. They had 14% returns in the 75th percentile.

I'm sure someone more familiar with VG research/white papers could find more of their stuff from that era. Would be interesting.

I mean, wouldn't it be more accurate to say that Vanguard "predicts" that there is a 68% probability of annualized market returns for the next 10 years being between -3% and 11%, assuming that they use 6% as the annualization of the 10-year standard deviation for U.S. equities?

This. Doesn't really take a PhD to make a prediction like "fairly likely to get -3% to 11% going forward", right?

And there's not much you can do with that is there? If it was "-2% to 12%", are you really going to change something?

One problem in these threads is that we all talk as if we are completely uninvolved in the setting of market prices. We aren't.

The ratio of equity assets to fixed income assets globally is about 40/60. Most people here are tilted very much the opposite direction. That means that we are saying that equities should be priced higher than they are and fixed income should be lower. That's right--by what we are doing most Bogleheads say the market PE is too low, not too high.

In putting any investment plan together, a key question is whether one thinks that the risks of a given investment are worth it. It's completely legit to factor valuation into such an analysis.

a) Aswath Damodaran who is perhaps the world's foremost authority on valuation estimates the current equity risk premium vs. long-term T-bonds as being 4.78%. Add the bond yield in and you get about 8% nominal or 6% real.

b) One highly simplistic way to estimate real returns is to just look at 1/PE, the logic being that companies do some combination of distributing income to shareholders and reinvesting to grow the business. 1/PE is agnostic as to which approach will generate higher returns. The PE of the total US market is currently about 26. That gives me an estimated return of ~3.8% real.

The top one is based on somebody who really knows what he is talking about, the bottom one is a crude rule of thumb.

The Vanguard forecast is based on a significant change downward in earnings multiples. I think an unforecastable exogenous event is needed to make this happen. Doesn't mean it won't happen, but I don't think it's automatic that bad things are more likely to happen than good.

The Vanguard forecast is based on a significant change downward in earnings multiples. I think an unforecastable exogenous event is needed to make this happen. Doesn't mean it won't happen, but I don't think it's automatic that bad things are more likely to happen than good.

couldn't it be due just to a change of sentiment rather than to some event? My understanding is that you don't need events to trigger a correction or a bear market.

Success does not bring happiness. In fact, happiness IS success. |
'There are only two tragedies in life: one is not getting what one wants, and the other is getting it.' Oscar Wilde

Yes, you can always control how much your withdraw from your portfolio.

So if Vanguard predicts a 68% chance of -2% - 12% instead of a 68% chance of -3% - 11%, you are telling me you would start taking more out of your portfolio?

I submit a more reasonable course would be to take more out AFTER you see the ACTUAL returns, instead of spending more just because Vanguard shifted their 68% estimates slightly to the right.

The means of those distributions are not very different.
But if Vanguard's estimate moves from 8% to 4%, you can always PLAN to withdraw LESS (although feel free to make that decisions AFTER you see the returns).

However, I fail to see how you can wait on your annual withdrawals until 10 years from now.

"You can get more with a kind word and a gun than with just a kind word." George Washington

I read the entire article and thought it was good. Vanguard's predictions of 10 yr. returns are much lower than either the last decade's or long term historical averages. I don't believe any predictions by anyone are rock solid but as predictions go, Vanguard's seem to me as reasonable as anyone's for expected returns over the next decade. It's about what I'm expecting. After 9+ years of strong bull market we have gotten used to optimism being rewarded and pessimism being punished by the market. That doesn't mean the future road will be likewise for a decade. Based on current market valuations, fundamentals, as well as macroeconomic issues like demographics, huge debt levels, tightening monetary policy, rising inflation, trade/tariff tensions, and potential adverse global geopolitical events--it certainly isn't clear that equities may keep on partying for the next decade. No one can predict when or how this exuberant bull will end or when the next bear will take hold. If history is any guide both will occur at some point in the future. I certainly don't expect it this year, but am less confident about 2019 or 2020. Vanguard could be wrong in its 10 yr. projections, no doubt. There is likewise no doubt that more optimist projections could be wrong.

I believe Vanguard posted this because it is concerned with a high current level of investor complacency which is typical of sentiment after a long bull market run. Schwab is doing the same thing for its investors. Neither suggests bailing out of equities for fixed income now, but rather that each investor should now take a serious look at his portfolio to be sure its risk level is aligned with his own risk tolerance. Seems like a modest suggestion to me.

The ongoing comments about the article promoting market timing are just completely off the mark. For those who are really interested in understanding what Vanguard is talking about, you really should read the full report I linked to earlier--here it is again: Vanguard's economic and market outlook for 2018.

From the full report:

While the case for
global diversification is particularly strong now, for the
purposes of asset allocation, we caution investors
against implementing tactical tilts based on just the
median expected return—that is, ignoring the entire
distribution of asset returns and their correlations.

(Underline mine).

Cautioning investors against tactical tilts is the exact opposite of market timing.

And from the summary at the beginning of the report:

In our view, the solution to this challenge is not shiny new objects or aggressive tactical
shifts. Rather, our market outlook underscores the need for investors to remain disciplined
and globally diversified, armed with realistic return expectations and low-cost strategies.

The ongoing comments about the article promoting market timing are just completely off the mark. For those who are really interested in understanding what Vanguard is talking about, you really should read the full report I linked to earlier--here it is again: Vanguard's economic and market outlook for 2018.

U.S. equities:
Median about 4 which means 50% chance > 4%
50% chance between about 2 and 7 (eyeballing it)
90% chance between -2.5 and +11.
5% chance, 1 in 20, that the return is more than 11%.

Finally people are starting to show error bars in their forecasts.
And more and more BHs are becoming aware that the predictions come with a wide variance. If we get -2% or 12%, it's all within the range of possibilities. About all we need to have 8% return is for CAPE to expand to about 45 by 2028.

I don't think awareness of a good faith best estimate of how things might play out in the medium-term necessarily equates to market timing. In my view their are three valid aspects to consider.

1. A person in their heavy-lifting accumulation years might consider a higher contribution rate if they have been using historic returns to estimate what savings rate will get them where they want to be by a certain age.

2. A person contemplating retirement in the short-term might weigh the benefits of delaying to pad the nest egg a little.

The third might seem like "market-timing", but only based on a misunderstanding of what market timing really is.

3. A person coming into the home stretch of accumulation might consider accelerating any glide path to a more conservative AA they have built into their plan.

What exactly will happen people are correct in saying we don't know. But I don't think it is a stretch into free wheeling market timing to accept that the underlying probabilities are distinctly different than they were 9 years ago. It's pretty well accepted that those in the first decade of retirement are susceptible to sequence of returns risk and it is likely that a decade of tepid returns, should it pan out, will come via a volatility roller coaster. Being in the cohort of those looking to step away sometime in the next 1.5-2.5 years, I feel I'd be doing myself a disservice if I stuck a finger in each ear and sang, "La-la-la-la-la..." really loud. I haven't and don't intend to do anything drastic, but because I am coming into my most vulnerable period of years I've jumped ahead on my glide path and have started running the numbers for working an extra year. If I was 25, or 35, or 45, or 75 I'd simply carry on (perhaps with a slight bump up in savings rate if I could swing it on the pre-retirement side of that). YMMV.

The next 10 years aren’t as important to me as the following 10 years after that. Can someone tell me what those returns will be?

In all seriousness, those numbers by Vanguard look really low for nominal. That would imply that there is a massive excess of capital and the cost of capital would be sitting for a long period of time at crazy low numbers. It would imply that there is almost no equity risk over bonds or treasuries and that interest rates are going to stay at near zero. It also implies that the growth of equities is just a point or two above the yield which sits at around 2% form TSM. Or, it implies that somewhere in there will be a massive dive before recovering and ending slightly higher.

I don’t buy it.

Now, what it will do is scare people into contributing much more so that they can achieve their number with low growth. And if you are in the business of investing people’s money, then that’s what you’d want to say. I buy that.

I read the entire article and thought it was good. Vanguard's predictions of 10 yr. returns are much lower than either the last decade's or long term historical averages. I don't believe any predictions by anyone are rock solid but as predictions go, Vanguard's seem to me as reasonable as anyone's for expected returns over the next decade. It's about what I'm expecting. After 9+ years of strong bull market we have gotten used to optimism being rewarded and pessimism being punished by the market. That doesn't mean the future road will be likewise for a decade. Based on current market valuations, fundamentals, as well as macroeconomic issues like demographics, huge debt levels, tightening monetary policy, rising inflation, trade/tariff tensions, and potential adverse global geopolitical events--it certainly isn't clear that equities may keep on partying for the next decade. No one can predict when or how this exuberant bull will end or when the next bear will take hold. If history is any guide both will occur at some point in the future. I certainly don't expect it this year, but am less confident about 2019 or 2020. Vanguard could be wrong in its 10 yr. projections, no doubt. There is likewise no doubt that more optimist projections could be wrong.

I believe Vanguard posted this because it is concerned with a high current level of investor complacency which is typical of sentiment after a long bull market run. Schwab is doing the same thing for its investors. Neither suggests bailing out of equities for fixed income now, but rather that each investor should now take a serious look at his portfolio to be sure its risk level is aligned with his own risk tolerance. Seems like a modest suggestion to me.

Garland Whizzer

It is a fallacy that this is a 9 year bull market. So quickly people forget 2015/2016.

a) Aswath Damodaran who is perhaps the world's foremost authority on valuation estimates the current equity risk premium vs. long-term T-bonds as being 4.78%. Add the bond yield in and you get about 8% nominal or 6% real.

b) One highly simplistic way to estimate real returns is to just look at 1/PE, the logic being that companies do some combination of distributing income to shareholders and reinvesting to grow the business. 1/PE is agnostic as to which approach will generate higher returns. The PE of the total US market is currently about 26. That gives me an estimated return of ~3.8% real.

The top one is based on somebody who really knows what he is talking about, the bottom one is a crude rule of thumb.

The Vanguard forecast is based on a significant change downward in earnings multiples. I think an unforecastable exogenous event is needed to make this happen. Doesn't mean it won't happen, but I don't think it's automatic that bad things are more likely to happen than good.

I don't really think it's a matter of the relative authority of one prognosticator over another.

A brief look under the hood of Damodaran's calcs, following the link you gave to the spreadsheet reveals what relative pessimists could find too optimistic about his analysis.
a) gives a cash yield of US stocks around 4%, dividends plus buybacks. A relative pessimist approaching the problem from his direction might ask about dilution via employee stock grants v buybacks.
b) he uses an odd (to me, though not claiming I'm any expert) bifurcation of assuming earnings grow at a 'streetish' kind of level for 5 yrs, then growth at the 30yr treas rate in perpetuity. The latest spreadsheet (not sure if exactly in sync with with his latest quote or ERP, but just talking ballpark) had 7.25% for those first 5 yrs, 2.96% thereafter. That compounds to ~5% earnings growth over 10 yrs. IOW it assumes profits of US co's keep growing as a % of US and world GDP from multi decade high range now as % of GDP, 36% greater share of US GDP at Fed's 1.8% trend growth estimate, though only 12% relative to world GDP assuming 3.75%. The relevant 'economic space' for co's in US market index is some composite of US and world.
Obviously, long term GDP growth trend is debatable also. I think it's useful though to think about E[r] in terms of macro fundamentals.
c) there's no explicit inclusion of a speculative return, which makes sense in a perpetual framework, but right here we're speaking of 10 yrs.

Then with a little math noise and perpetual v 10 yrs, you get 4%+5%= only ~8% (others feel free to chime in and tie it in more closely) but still broad sign of barn there's nothing mysterious here: if profits keep rising as a % of GDP and the true cash payout rate is really 4%, and there's no speculative return headwind, a number something like Damodaran's makes sense. But those are three sizable if's IMO, and I don't see any more authoritativeness in his calc than Vang's. Or even just inverting the CAPE as a starting point for E[r] assuming no speculative return, CAPE=32.8 now, so implies 3% real by rule of thumb.

Vanguard has an argument, in terms of their 'fair value' CAPE (ie adjusted for rates, by which measure today's CAPE is high-ish but not as out of line as if compared to all of history when rates were usually higher) to expect a negative speculative return over the next 10 yrs, eating into the 1/CAPE~3% real return and bringing it down to 1 or 2%.

Who is right? Note, the answer to this IMO is not 'nobody, because nobody knows the future'. None of these are *predictions of the realized return*. They are *estimates of the expected return*. I do not think that comments which confuse those two things have a lot of value. A comment not directed at you, to be clear. You have presented two alternative estimates of the expected return which are not IMO categorically less valid than Vanguard Research's. I might just differ with you as to whether Damodaran's is any more authoritative, and while we agree that inverting the PE to estimate real E[r] is a common rule of thumb, seems to me the convention of using the CAPE for that rather than spot PE is probably more desirable.

I don't think awareness of a good faith best estimate of how things might play out in the medium-term necessarily equates to market timing. In my view their are three valid aspects to consider.

1. A person in their heavy-lifting accumulation years might consider a higher contribution rate if they have been using historic returns to estimate what savings rate will get them where they want to be by a certain age.

I'm not trying to pick on you, but how realistic is this? My saving plan is basically "as much as I can." If I think returns will be a lot better or a lot worse than average, it doesn't change how much I'm saving. I can't afford to save any more. But also because the great unknown of the future, I feel like I can't afford to save any less either.

It is a fallacy that this is a 9 year bull market. So quickly people forget 2015/2016.

The general definition for the end of a bull market is a 20% decline in market value which also defines the start of a bear market. That did not occur in 2015/2016. A decline of 10% - 20% defines a "correction," but corrections can occur in an ongoing bull market if they are temporary, less than 20%, and followed by new highs. Bacchus01's makes a good point about 2015/2016, but that was just a correction. By generally accepted definitions the bull market that began in 2009 is still ongoing.

I don't think awareness of a good faith best estimate of how things might play out in the medium-term necessarily equates to market timing. In my view their are three valid aspects to consider.

1. A person in their heavy-lifting accumulation years might consider a higher contribution rate if they have been using historic returns to estimate what savings rate will get them where they want to be by a certain age.

I'm not trying to pick on you, but how realistic is this? My saving plan is basically "as much as I can." If I think returns will be a lot better or a lot worse than average, it doesn't change how much I'm saving. I can't afford to save any more. But also because the great unknown of the future, I feel like I can't afford to save any less either.

I think it matters in that you don't represent the average investor, or even close to the average investor. The average investor is putting away next to nothing. This is a way to entice them to put away much more, as returns are expected to be low.

It is a fallacy that this is a 9 year bull market. So quickly people forget 2015/2016.

The general definition for the end of a bull market is a 20% decline in market value which also defines the start of a bear market. That did not occur in 2015/2016. A decline of 10% - 20% defines a "correction," but corrections can occur in an ongoing bull market if they are temporary, less than 20%, and followed by new highs. Bacchus01's makes a good point about 2015/2016, but that was just a correction. By generally accepted definitions the bull market that began in 2009 is still ongoing.

Garland Whizzer

Technically we had a 20% drop in 2011. So this bull market has only been going on for 7 years.

It is a fallacy that this is a 9 year bull market. So quickly people forget 2015/2016.

The general definition for the end of a bull market is a 20% decline in market value which also defines the start of a bear market. That did not occur in 2015/2016. A decline of 10% - 20% defines a "correction," but corrections can occur in an ongoing bull market if they are temporary, less than 20%, and followed by new highs. Bacchus01's makes a good point about 2015/2016, but that was just a correction. By generally accepted definitions the bull market that began in 2009 is still ongoing.

Garland Whizzer

Technically we had a 20% drop in 2011. So this bull market has only been going on for 7 years.

Depending on how you define it, the current bull market may only be two years old.

Hirsch relies on more specific parameters established by Ned Davis Research. It defines a bull market as 30% rise in the Dow after 50 calendar days or a 13% rise after 155 calendar days. Reversals of 30% in the Value Line Geometric Index also count, he says. A bear market uses the same figures, but in the opposite direction. (Check out Hirsch’s blog post for more details on the parameters and his thoughts on calling bull and bear markets.)

The bottom line is that under this criteria, stocks fell into a bear market between August and October of 2011 and again between May 19, 2015 and Feb. 6, 2016. So that would make the current bull just a shade over two years old.

“It's a dangerous business, Frodo, going out your door. You step onto the road, and if you don't keep your feet, there's no knowing where you might be swept off to.” J.R.R. Tolkien,The Lord of the Rings

How many times are we going to rehash this conversation? Nobody has a crystal ball and market timing is not the boglehead way. This thread is not actionable.

I don't understand why threads under the "Theory, News & General" should be actionable. If anything, isn't acting based on the news precisely NOT the Boglehead thing? It just seems to me that users in this sub-forum should be free to discuss the theory and news without having to be working toward some action. I know it's not your rule, but it's a bad rule.

I read the entire article and thought it was good. Vanguard's predictions of 10 yr. returns are much lower than either the last decade's or long term historical averages. I don't believe any predictions by anyone are rock solid but as predictions go, Vanguard's seem to me as reasonable as anyone's for expected returns over the next decade. It's about what I'm expecting. After 9+ years of strong bull market we have gotten used to optimism being rewarded and pessimism being punished by the market. That doesn't mean the future road will be likewise for a decade. Based on current market valuations, fundamentals, as well as macroeconomic issues like demographics, huge debt levels, tightening monetary policy, rising inflation, trade/tariff tensions, and potential adverse global geopolitical events--it certainly isn't clear that equities may keep on partying for the next decade. No one can predict when or how this exuberant bull will end or when the next bear will take hold. If history is any guide both will occur at some point in the future. I certainly don't expect it this year, but am less confident about 2019 or 2020. Vanguard could be wrong in its 10 yr. projections, no doubt. There is likewise no doubt that more optimist projections could be wrong.

I believe Vanguard posted this because it is concerned with a high current level of investor complacency which is typical of sentiment after a long bull market run. Schwab is doing the same thing for its investors. Neither suggests bailing out of equities for fixed income now, but rather that each investor should now take a serious look at his portfolio to be sure its risk level is aligned with his own risk tolerance. Seems like a modest suggestion to me.

Garland Whizzer

It is a fallacy that this is a 9 year bull market. So quickly people forget 2015/2016.

It is not a fallacy. A bull market can have years that are basically 0 percent in gains. A bull market stops when a bear market begins which is when you fall into the (-20%) range.

"We are what we repeatedly do. Excellence, then, is not an act, but a habit."

I read the entire article and thought it was good. Vanguard's predictions of 10 yr. returns are much lower than either the last decade's or long term historical averages. I don't believe any predictions by anyone are rock solid but as predictions go, Vanguard's seem to me as reasonable as anyone's for expected returns over the next decade. It's about what I'm expecting. After 9+ years of strong bull market we have gotten used to optimism being rewarded and pessimism being punished by the market. That doesn't mean the future road will be likewise for a decade. Based on current market valuations, fundamentals, as well as macroeconomic issues like demographics, huge debt levels, tightening monetary policy, rising inflation, trade/tariff tensions, and potential adverse global geopolitical events--it certainly isn't clear that equities may keep on partying for the next decade. No one can predict when or how this exuberant bull will end or when the next bear will take hold. If history is any guide both will occur at some point in the future. I certainly don't expect it this year, but am less confident about 2019 or 2020. Vanguard could be wrong in its 10 yr. projections, no doubt. There is likewise no doubt that more optimist projections could be wrong.

I believe Vanguard posted this because it is concerned with a high current level of investor complacency which is typical of sentiment after a long bull market run. Schwab is doing the same thing for its investors. Neither suggests bailing out of equities for fixed income now, but rather that each investor should now take a serious look at his portfolio to be sure its risk level is aligned with his own risk tolerance. Seems like a modest suggestion to me.

Garland Whizzer

It is a fallacy that this is a 9 year bull market. So quickly people forget 2015/2016.

It is not a fallacy. A bull market can have years that are basically 0 percent in gains. A bull market stops when a bear market begins which is when you fall into the (-20%) range.

Check out the article I linked to above. Depending how precisely how you measure it, the current bull market may only be two years old.

Regardless, bull markets don't die of old age. The length of a bull market does not increase the likelihood of a bear market.

“It's a dangerous business, Frodo, going out your door. You step onto the road, and if you don't keep your feet, there's no knowing where you might be swept off to.” J.R.R. Tolkien,The Lord of the Rings

I don't think awareness of a good faith best estimate of how things might play out in the medium-term necessarily equates to market timing. In my view their are three valid aspects to consider.

1. A person in their heavy-lifting accumulation years might consider a higher contribution rate if they have been using historic returns to estimate what savings rate will get them where they want to be by a certain age.

I'm not trying to pick on you, but how realistic is this? My saving plan is basically "as much as I can." If I think returns will be a lot better or a lot worse than average, it doesn't change how much I'm saving. I can't afford to save any more. But also because the great unknown of the future, I feel like I can't afford to save any less either.

All I said was "might consider it". Obviously if someone is already saving at the maximum rate they can it's not an option. I suspect there are a lot of people who are not saving at the limit of their ability, looking at what 6-7% real return would give them down the road, and saying, "Good enough". That's how I operated for the first 20 years I was accumulating--conventional wisdom as conveyed to me back then was set aside 10%, I did 12% and figured I was at the head of the class. No bogleheads.org back then to give me other options to consider.

a) Aswath Damodaran who is perhaps the world's foremost authority on valuation estimates the current equity risk premium vs. long-term T-bonds as being 4.78%...

b) One highly simplistic way to estimate real returns is to just look at 1/PE...

A brief look under the hood of Damodaran's calcs ... IOW it assumes profits of US co's keep growing as a % of US and world GDP from multi decade high range

First--Thanks for the well-thought-out reply!

A few comments:

When I look at this chart: https://fred.stlouisfed.org/graph/?g=1Pik , corporate profits as a % of GDP has been trending downward, not upward. Now, it can go down further (although in the short run it will go up due to the tax cut), but market performance over the past 5 years doesn't seem to have been driven by higher profit margins.

I don't see any more authoritativeness in his calc than Vang's. Or even just inverting the CAPE as a starting point for E[r] assuming no speculative return, CAPE=32.8 now, so implies 3% real by rule of thumb.

I agree. I offered him up as an expert alternative to the expert pessimists that get an awful lot of attention on this board.

... while we agree that inverting the PE to estimate real E[r] is a common rule of thumb, seems to me the convention of using the CAPE for that rather than spot PE is probably more desirable.

The thing is--if you look at the historical average, the PE1 vs PE10 result aren't really that different from one another. For more recent history (5-7 years), they have diverged significantly, which is probably worth looking into in terms of the "why".

From a theoretical perspective, what is happening today would be more relevant to the future than what happened 10 years ago, but a calc like PE10 assumes that is not the case--2005 is just as relevant to 2025 as 2015 was. I understand the idea of trying to eliminate one-time oddities, but adjustments to this year's EPS can be done by taking a more comprehensive look at current financials.

I agree that VG (and a couple of other experts who are trotted out in these threads) have an argument. If I subscribed to it I'll actually say that I would switch from a 60/40 allocation to something more resembling 40/60.

Back in 2000 (with hindsight), moving out of stocks and into TIPS with 3+% real yields would have been a smart call, at least for someone in or near retirement (note that I was not in the "smart call" camp back then ). But there was more agreement among expected return models back then that future expected returns would be poor. Today, CAPE-driven models forecast poor returns; other models are not nearly as pessimistic. And that's why I don't see a need to make a change at the present time.

Do any of the predominant models used to forecast future stock returns specifically incorporate growth in earnings? I don't recall ever seeing one that did. I would think that earnings growth will have a much bigger impact on future returns than just about anything else, including valuations, interest rates, etc.

“It's a dangerous business, Frodo, going out your door. You step onto the road, and if you don't keep your feet, there's no knowing where you might be swept off to.” J.R.R. Tolkien,The Lord of the Rings

Do any of the predominant models used to forecast future stock returns specifically incorporate growth in earnings? I don't recall ever seeing one that did. I would think that earnings growth will have a much bigger impact on future returns than just about anything else, including valuations, interest rates, etc.

Absolutely. And to extend it further I would argue that earnings growth will be a major driver in valuation changes. Low growth would lead to lower valuations and vice versa.

I think the challenge is coming up with a good number. I think the most common approach is to simply project past earnings growth rates into the future. One could also use analyst estimates. Both of these approaches are useful but also problematic.

Do any of the predominant models used to forecast future stock returns specifically incorporate growth in earnings? I don't recall ever seeing one that did. I would think that earnings growth will have a much bigger impact on future returns than just about anything else, including valuations, interest rates, etc.

Absolutely. And to extend it further I would argue that earnings growth will be a major driver in valuation changes. Low growth would lead to lower valuations and vice versa.

I think the challenge is coming up with a good number. I think the most common approach is to simply project past earnings growth rates into the future. One could also use analyst estimates. Both of these approaches are useful but also problematic.

So in other words...

"Nobody knows nuthin'."

“It's a dangerous business, Frodo, going out your door. You step onto the road, and if you don't keep your feet, there's no knowing where you might be swept off to.” J.R.R. Tolkien,The Lord of the Rings

I think it comes down to a Pascal's wager of sorts. Is better to act with an expectation of relatively low returns and be wrong than to act with an expectation of relatively high returns and be wrong when a rational case can be made that low end outcomes are somewhat more probable? There probably is not an objectively correct answer to that as it probably falls in the domain of temperament.

I think it comes down to a Pascal's wager of sorts. Is better to act with an expectation of relatively low returns and be wrong than to act with an expectation of relatively high returns and be wrong when a rational case can be made that low end outcomes are somewhat more probable? There probably is not an objectively correct answer to that as it probably falls in the domain of temperament.

As HomerJ is constantly pointing out, a prudent investor should always be planning for low returns. Expecting that one will receive historically average returns can be downright dangerous.

“It's a dangerous business, Frodo, going out your door. You step onto the road, and if you don't keep your feet, there's no knowing where you might be swept off to.” J.R.R. Tolkien,The Lord of the Rings

Do any of the predominant models used to forecast future stock returns specifically incorporate growth in earnings? I don't recall ever seeing one that did. I would think that earnings growth will have a much bigger impact on future returns than just about anything else, including valuations, interest rates, etc.

Every estimate of stock expected return at least implicitly includes earnings growth. The estimate of Damodaran's is explicitly based on it, see discussion just above and the spreadsheet of Damodaran in the link. The basic equation is the Gordon growth model:
E[r]=DY+g, DY=dividend yield, g=dividend growth rate.
"g" is assumed to equal EPS growth rate with a fixed payout ratio. Damodaran estimates the earnings growth rate directly. Some analyses assume long term that g=GDP growth rate. At least two corrections must be applied: stock buybacks now have a significant effect unlike in most of history, either raising effective DY (as Damodaran does) or the effective EPS growth rate. In long term history EPS growth has lagged GDP growth in almost every country. Among the reasons are dilution (which could alternatively be counted against buybacks in DY) and the tendency of the most dynamic profit opportunities to go to private holders rather than publicly traded company stockholders. EPS growth, exceptionally, has exceeded GDP growth in the US from the late 1980's in part due to buybacks, but again you'd correct for that in *either* the effective DY or g, not both.

Further taking g and PE as real (inflation adjusted) variables and assuming in equilibrium the firm reinvests undistributed profits at the real expected return, the 'rule of thumb' that real E[r]=1/PE is just a further manipulation of the same equation. The 'thumb' part comes from the potential difference in reported and 'real' earnings (how stuff like depreciation and debt value isn't corrected for inflation) though that doesn't necessarily bias it in one direction. Some analyses deal in PE adjusted for those factors.